Napatech

Hello and welcome to NAPA Tech Q1 2021 IMS. Today, I am pleased to present CEO Ray Smetsen and CFO Aine Salsgaard. Please go ahead with your meeting.

Good morning. I'm pleased to welcome you all to NAPA Tech's Q1 2021 Interim Management Statement presentation. I'm Ray Smets, CEO of NAPA Tech. I'm joined today in our offices in Copenhagen by Heine Thorsgaard, our Chief Financial Officer. Today's Q1 2021 IMS was released earlier this morning on the OSCE and is available on the investor relations page of our website at napotech.com. For your information and recording of this webcast, we'll also be available on the NAPA Tech website as soon as possible later today. Next slide. As always, we want to be available to answer your questions. We'll answer your questions at the end of our presentation via text, which you can submit on the webcast page using the button below our presentation. We can also take your questions over the phone if you prefer. If you'd like to ask a question, please follow the instructions on this slide. Next slide, please. Please note that this presentation contains forward-looking statements that are subject to a number of risks and uncertainties. Our actual results may differ from those discussed in forward-looking statements. Next slide, please. So let's get started. I'll present a summary of key financial achievements for Q1 an update about our business and market, as well as review our progress on key partnerships and design wins. Heine will then provide a detailed review of our Q1 2021 financial results, and then I will close with a review of our outlook for the full year 2021. Next slide, please. Q1 2021 started on track and as expected. We delivered revenue growth of 6% year over year against a very strong Q1 last year, helped by strong sales to existing and new customers. In addition to delivering good revenue growth in Q1, we generated solid gross margins of 70% within our annual guidance and up from the prior Q1 of 2020. This is a continued validation of our value proposition in the market. On the earnings front, EBITDA, EBITDA and overall earnings were significantly up year over year, demonstrating the overall strength of our business, from the top line to the bottom line. With these results, we have delivered 10 quarters in a row of year-over-year revenue growth adjusted for the 2018 sale of our underperforming Pandian product line, and we delivered a combination of year-over-year revenue growth and profit for the fourth quarter in a row. As we have been demonstrating throughout the last year, during a year of uncertainty and challenges due to the global pandemic, Napotex products have resonated well with our target markets. We have navigated the choppy waters around supply chain disruptions too. One of the key areas we've been carefully watching is the current general industry supply chain issues for semiconductors and other vital components. We have done a great job staying ahead of this evolving worldwide challenge by opportunistically securing component supply well in advance to assure that we have them in place to support our planned revenue goals for the year. We did that again in Q1, and we feel that we are managing these risks well under the circumstances. Heine will review more financial details later in this presentation, but we're on track as expected in our first quarter of 2021. Next slide, please. Now I'd like to walk you through Napa Tech's business highlights, quickly summarizing what we do, how we target our market, the key customers we want in Q1, and an update on several of the key press releases we made since we last presented. Next slide, please. Over the recent past, we have strived to fulfill our promise to drive our business further, earning a path to the next level of growth. We created momentum with good execution, building best-in-class FPGA-based SmartNICs and software, solving real-world problems, accelerating applications and growing market segments like networking and security, 5G mobile, cloud and edge, and financial services. We help make networks faster, and we're making servers more powerful while reducing customer data center costs. All of this is real value for customers solving problems today. And with this momentum, the future looks bright. Our solid core product momentum that we have been demonstrating creates a stable foundation for growth, driving healthy cash flow to keep up our investments in product innovation. This in turn is demonstrating our success at creating new revenues from our new product initiatives that increase our potential to win new important and key design wins and gaining traction with new partnerships as we have revealed over the last few months. This kind of progress will truly move the needle in significant ways over the next few years. So I'd like to say that we have earned a path to the next level, but the work really has just begun. We remain committed to keep up the good efforts and bring Napa tech into the center of the spotlight where we can make a big impact. Next slide, please. Here's a summary of some, but not all logos of the customers that brought bought Napa tech products in Q1. As I did last quarter, I categorize their logos into key market segments like networking and security, telecom and cloud government and defense and financial technology. where we often target our SmartNIC solution sales. We had important sales in all of these segments with solid recurring business customers in the networking and security and telecom and cloud categories, including key growing customers like IBM, LiveAction, Emergent, and PolyStar, just to name a few, and new momentum with Quantia, Viavi, and Arteza networks. On the cloud and telco side, we continue to extend our business with Facebook, And we are gaining traction with GoDaddy, who is an important new customer that we are working hard to build momentum with. We're doing this all while building business momentum with key service providers like Orange, KT, NTT, Vodafone, BT, and Verizon, all from Q1. In these domains, higher speeds and the need for better performance is driven by 5G, increasing security threats, the need for greater visibility, and faster processing of packets, and the transition to software-defined networking. The Napotex solution offers advantages in all of these areas. We also saw good orders in the government and defense segment with customers like Ryan Mittal, Accelio, and ClearTrail, but also Jet Propulsion Labs, Airbus Defense, and a number of defense agencies from various countries around the globe. In these use cases, mission-critical apps need higher performing performance with zero packet loss, but with greater visibility and network control. On the fintech front, we continue to earn business with key OEM customers like Pico Corelight, Velocimetrics, and Refinitiv, and end-user customer business with Citadel, Maven, and we took an order from a new customer who is building a soon-to-be-opened exchange called Elemax. Overall, we're pleased with our customer wins in Q1, which is seasonally our slower quarter of the year as we build momentum as our year continues to mature. Next slide, please. As we've reported before, we like to keep our investors updated on the latest views of the overall NIC market, and specifically the smart NIC market. Our goal for showing this information is to assure our investors that we are approaching a large and growing market with plenty of headroom to thrive and grow. In the latest report showing the full year of 2020, recently released, the total overall NIC market is expected to approach $2.9 billion this year in 2021, growing at about 23% year over year compared to 2020. This new report also shows the newly revealed forecasting for 2025 of 5.6 billion. In total, the overall market is expected to grow at a very healthy 32% CAGR through 2025. This overall NIC market is divided into three major segments, The basic NIC market is the blue segment of the bar chart, and it's the low-cost, low-margin part of the market that offers basic fixed-function NICs with no programmability. NAPA Tech does not participate in this segment. The offload NIC market, listed in green on the bar charts, is dominated by non-programmable ASIC processors, offering little in the way of flexibility or application accelerations. Napa Tech is not focused here per se, but we try to convince some of this market to come our way for the right use cases. And lastly, the programmable NICS segment, which is the orange bar on the bar chart, often called the smart NICS segment. That's where the highest performing solutions reside. These smart NICS deliver ultra high speed networking functionality with the ability to be reprogrammed and enhanced with new software to meet the ever changing customer requirements for high performing mission critical apps. Napa Tech is keenly focused on addressing the programmable NIC market segment. As reported by Omdia, the programmable NIC market is the fastest growing segment of the overall NIC market. In the recently released report from January 2021 for the full year 2020, Napa Tech continued to rank number three amongst the vendors in the segment. And we are the largest vendor making commercial smart NIC technology with FPGAs behind Marvell and Broadcom. We use a system on chip solution. Next page, please. Leaving the other NIC segments aside for just a bit, let's focus on the programmable NIC market, which is NAPATEC's target market. It is comprised of a combination of two kinds of companies, namely self-builds and vendors. As you can see on the left side of this chart, the programmable NIC market is largely held by two large self-build players, Microsoft and Amazon. who up to this point don't buy commercially, but prefer to make their own programmable NIC cells for their own use. The other companies in this market are vendors who make the smart NICs for companies to buy and deploy. That's where we exist. The pie chart on the right side of the slide focuses only on the vendors. In this part of the programmable NIC segment, Napa Tech ranks number three amongst the vendors, and we remain the largest vendor making commercial smart technology with FPGAs. I always like to say we're well positioned in this market. We are large and meaningful, but we are agile and growing. I believe this paints a good picture of where we stand in our prospect for growth in this fast growing and emerging market. Next slide, please. We've been working hard and these are the headlines of some of the achievements and progress we've been making in 2021 so far. As we presented already, a recently announced partnership with Lenovo is noted as an important step for Napa Tech. Lenovo is a top three server maker with long and deep relationships with the kinds of customers we want to get access to. In this partnership, we bring our latest solution focused on virtual networking to their market, running our newest link virtualization SmartNIC software designed to accelerate apps and services, meeting the most demanding virtual requirements of 5G mobile, telecom operators, and cloud service providers. Napa Tech estimates the revenue potential of this design win to exceed $10 million over the life of the product with initial customer orders potentially starting in the back end of 2021 and ramping into 2022 and beyond. Another key partnership we presented is with Silicon, a well-respected industry leading provider of high performance networking and data infrastructure solutions. Napa Tech software will power the Silicon SmartNIC, which is based on the Intel FPGA SmartNIC reference design. This is a partnership to bring Napa Tech's link virtualization software combined with Silicon's leading FPGA SmartNIC to the market. And we're excited about this new partnership with our friends at Silicon. And we work hard to make Silicon win new deals, help them win new deals, which is a win-win for both companies. We issued a press release a few weeks back about our participation in the new Kinetic Edge Alliance, the edge computing ecosystem hosted by Vapor.io. In this alliance of emerging tech companies, it is focused on the first fully integrated hardware and software systems for edge co-location exchange and networking services. Edge computing will deliver the next wave of network and data center infrastructure, Vital to support 5G, autonomous vehicles, and many other exciting technologies and applications. NAPA Tech will work with the other members of the SECO system to define, integrate, and validate multi-vendor, end-to-end solutions that result in the delivery of high-performance edge applications and services. Our goal is to be an integral part of this evolving edge computing network. As we noted in our Capital Markets Day presentation recently and yesterday, we published in a joint press release, NAPA Tech's partnership with Acronix is beginning to take shape, focused on bringing new powerful FPGAs to our customers while aligning our software solutions with Acronix's target customer market. Acronix is a leader in FPGAs and embedded FPGA IP. In this partnership, it gives each company access to each of our best-in-class solutions. we intend to combine the Acronix Speedster 7T FPGA with Napotex SmartNIC software, giving both companies a win-win in an effort to provide a feature-rich, high-performing solution to a growing set of data center operators and 5G mobile telecom service providers. We expect this will give us better access to the opportunities that we are growing in the hyperscale and service provider 5G markets. We are also excited to reveal a new design win with an important cybersecurity OEM customer who has selected Napotex software and hardware to improve the speed and accuracy of their newest enterprise-grade cybersecurity appliance. In this application, they protect networks combining two of the most powerful open-source cybersecurity applications into a powerful commercial-grade offering, transforming network traffic into actionable data for analysis, forensics, and real-time response. This is the fourth design win with this important new customer over the last year, which is already producing revenue for Napa Tech. This customer has asked Napa Tech to keep their brand anonymous. Next slide. I promised almost three years ago when I took the role of CEO of Napa Tech to stay keenly focused on our core competencies and building software on FPGA-based SmartX. Also with this, we have been executing on a three-prong strategy to grow our business. and this strategy has served us well. Our plan for growth is to focus on our product strategy where one, we expand our core product revenues with new competitive features. Two, grow new product revenues with inline features to access and address new firewall market opportunities. And three, gain traction in the fast-growing virtual use cases with an addressable market needing apps deployed as a virtual instance on a virtual machine. such as in 5G Mobile or Cloud and Edge. This multi-pronged approach assures that we are delivering revenues on a solid foundation and core expertise while enthusiastically building new revenues in areas where we think we can win. Next slide, please. Let's finally get into the financial details. I'd now like to turn the call over to Heina Thorsgaard to review more details about our Q1 2020 results.

Heina? Thank you. Slide 14, please. Revenue in USD in Q1 was up 6% compared to last year, but due to the weakened US dollar, revenue in DKKL fell 4% compared to Q1 of 2020. Gross margins in Q1 ended at 70%, up 1.2 basis point compared to Q1 last year. Our staff costs and other external costs amounted to 30.4 million in Q1 compared to 33.5 million in Q1 of 2020. EBITDAQ in Q1 amounted to 2.4 million compared to 0.1 million in Q1 last year. Staff costs transferred to capitalized development costs in Q1 amounted to 6.4 million compared to 3.9 million in Q1 of 2020. This growth reflects the capitalization of our virtualization products and the increased activities related to these development products compared to last year. EBITDA in Q1 amounted to 8.8 million and EBIT amounted to 3.6 million compared to EBITDA of 3.9 million and EBIT of negative 1.9 million in Q1 last year. The result for Q1 amounted to 5.2 million compared to negative 1.9 million in Q1 2020. Slide 15 please. Net cash flows from operating activities in Q1 amounted to negative 12.5 compared to positive 3.4 million last year. End of Q1, net working capital was 26.4 million compared to 17.8 million end of Q1 2020. In the quarter, our working capital grew 21.3 million and compared to end of Q1 last year, our inventories are up almost 10 million. We have proactively been sourcing components for some time due to the uncertainty around the supply chain. in order to secure our production needs and we feel comfortable with our current supply chain situation. Net cash used in investing activities in Q1 amounted to 7 million compared to 3.3 million in Q1 of 2020. Free cash flows in Q1 amounted to negative 19 million compared to 0.1 million in Q1 last year. Cash and cash equivalents end of Q1 amounted to compared to 63.7 million end of Q1 last year. Back to you, Ray.

Thank you, Heiner. Next slide, please. Now let's turn our attention to our outlook for 2021. Next slide. We remain committed to our previously published outlook for 2021, where we build near-term revenues and long-term growth. With revenue, we expect revenue in USD to be in the range of 35 million to 38.3 million, reflecting growth rates of 17.8% to 29.1%. In DKK, we expect revenue to be in the range of 210 to 230 million DKK. We expect the timing of revenue to be stronger in the second half of 2021 compared to the first half of 2021. We expect gross margins to be between 70% and 72% for the full year of 2021. We expect our staff and other external costs in 2021 to be in the range of 125 to 135 million DKK. We expect transferred capitalized development costs to be in the range of 20 to 25 million DKK. And we expect depreciation and amortization to be in the range of 20 to 25 million DKK. We expect EBITDA and EBIT to be in the range of 22 to 30.6 million DKK. With performance in the middle of the ranges, EBITDA and EBIT will be 26.2 million DKK. And keeping in mind, we remain vigilant about the impacts being felt across many of the markets due to COVID-19's pandemic, but we feel pretty good about our ability to execute and we believe we are managing our business impacts well related to the pandemic. Next slide, please. In conclusion, we are striving every day to build a company that is deeply rooted in what we do best, building innovative FPGA-based SmartNIC solutions that solve real-world problems today, accelerating applications and improving the economics of the data center. We are looking to unlock opportunities within the expanding 5G networks and supporting the growth of apps running in data centers. Over the years, we have delivered a combination of stability, growth, and positive earnings. And in doing so, we built a good prospector investment for our investors.

Our increased focus on building key partnerships promises to support our goal of expanding into new parts of the market.

We will always strive to give you a realistic view of what we can achieve, and then we are committed to find a way to go beat it. Next slide, please. And now I'll invite Heine Thorsgaard to join me to take your questions. If you'd like to ask a question, you can submit it now on the live webcast page using the button below, or you may dial into one of the phone numbers on the screen where an operator will answer your call and place you into a queue. Please keep your questions to one or two per caller. We'll do our best to respond to as many text questions as we receive. Operator, do we have any calls in the queue?

Thank you. If you do wish to ask a question, please press 01 on your telephone keypad. And if you wish to withdraw your question, you may do so by pressing 02 to cancel. And we have no question at this time.

Yeah, I do have a few calls on the the text questions, and we'll cover all of these so far that we have. So the first one is regarding cash flow in Q1. It says, can you comment on why it was negative in Q1, and do you anticipate this changing in the coming quarters? Heiner, I think this is a good question for you to start.

Thank you. As mentioned, our working capital grew more than 20 million in the quarter. This is mostly related to the inventory build-up that we've been working on, as mentioned. In order to secure our production going forward, we've been sourcing components for quite some time, starting late Q4 with an inventory build-up, and the cash flow in Q1 is related to payments regarding those inventory build-ups. So that's That's a large part of the impact in Q1, that's payments related to inventory build-up. So something that we've been proactively seeking. And other than that, Q1 is usually impacted by trade receivables growing in the quarter. And we did have a very low networking capital at the end of Q4 as commented on the Q4 presentation. And this is part of the normalization that is impacting Q1, but mostly also related to this intentional buildup of inventories in order to secure our production going forward.

Okay, thank you, Hyna. Good question and good answer. And I think I'll just add a little additional color. We've been watching the supply chain challenges emerge across the industry, especially in the semiconductor space over the last six months, some of which is driven by the pandemic and some of which is driven by demand in certain areas. So, you know, we have the capital and it's wise for us to deploy the capital to secure our revenue. This is a good example. of the early bird gets the worm. So I'm glad that we've been opportunistic about securing component supply in this very unusual period of time for us. But we feel very comfortable with our current situation on cash and cash flow for full year 2021. We do have a second question online, and then I believe there's also one on call in queue. But we'll take the second question on text, and then we'll go to the phone call in just a moment. She says, can you provide any update on Lenovo? Are clients still testing? The answer to that question is we don't have anything to announce about Lenovo, but I am very happy to say that the activity level with Lenovo continues to be quite strong. And yes, they continue to be testing with some target customers. This is, as we've mentioned before in Capital Markets Day and our prior IMS, this does take some time to develop. But the good news is we have active engagement there. And we're very hopeful that those will move to the next level. Operator, do we have a call on hold for a question?

Yes. So the question comes from the line of Sergei Maskarov, private investor. Please go ahead. Your line is open.

Hey, guys. Thanks for taking my questions. So have you seen any changes in the supply chain the last few weeks? I mean, is the critical component shortages improving or worsening?

Yeah, it's a good question, Sergey. And it's related to the conversation we just had around our capital use in Q1. We absolutely have seen a change in supply chain over the last few months. And we've been very carefully watching this, especially to some of the key supply chain components that we rely on. to secure revenue, specifically the FPGA and what the lead times are to get the FPGA, and then a number of other components that are used by many other companies in building solutions. We've done a really good job in operations. We did this last year when we saw this happening. We did it again this year. We're deploying some additional capital to secure some additional components so that we don't get caught off guard with having no components to fulfill revenue. So I think we're in a very good position as we go through 2021. to uh to meet our revenue plan and we uh you know we're buying a little further in advance than normal but uh we believe that's the right and prudent thing to do and i hope our investors will agree thanks for that question yeah but but i mean um is the pro the problem improving or worsening oh yeah it's uh It's not really improving yet. We actually have frequent phone calls with our contract manufacturer. We stay very close to the industry about how things are evolving. And the advisories that we're seeing and the feedback that we're getting is that companies like Napa Tech have to be on guard because the problem that we're seeing here probably will exist through the end of this year and into next year.

okay thank you so uh have your software cells a one-time effect or or unlike a software service model with uh recurring revenues uh could you repeat the first part of your question sir yeah yeah your software cells are a one-time effect or are more like a software service model the uh good question the software so we actually uh

When we license our software, it is a one-time impact. From a licensing perspective, we don't have subscription services for our software. But we also have recurring maintenance and extended warranty services that we provide to give customers access to enhancements and other things of that sort on software. So that is a new effect on our business plan over the last couple of years, and we're still continuing to grow that. But it is an important new part of our product line to offer services around warranty and services to our customers. Thank you for the question.

Yeah, perfect. And my last question, you expect that over the mid-term, your hardware sales gross margin will be flat at the 70% level, right?

Yeah, we're pretty sure.

Okay. So if your software sales have 100% gross margin, shouldn't we expect as the software sales ramp up I mean 70% growth margin for the company. Does it make sense for you?

Yep. I think I know what you're asking and yes, it does make sense. It's very hard to predict at this stage of the game what the increase in software will be as a percentage of total revenue. We've guided some aspirational points of view on that in the Capital Markets Day material that we've recently presented. There will be some hardware pricing or I'd say margin challenge at times. We see that will be offset by the software-only solution that we're targeting. And when we do the models, we feel pretty confident that our gross margin will maintain a strong 70% model. We're very fortunate within this industry. I think if you study other suppliers in this type of part of the industry, you'll see the gross margins for them tend to be quite low. We're benefiting with strong gross margins in our part of the industry because we are valued more as a software solution than a hardware solution. And that gives us a lot of opportunity in terms of pricing flexibility and value pricing with our customers. So we do feel pretty confident that the margins will remain strong in the 70% range over our view over the next couple of years.

Perfect. And one more question if you don't mind, the last one. Are you seeing a strong demand for the software solution and also a few words about the competition here, please?

Yeah, you've noticed with the conversation that we've been putting forth around building partnerships that a lot of the partnerships that we're creating today are with the intention of positioning our software-only solution running on third-party hardware. That is indeed the case with the silicon relationship. You saw the advisory about a growing partnership with Acronix, which is in the same vein. And we've also had a similar relationship in place with Intel for the last couple of years, where we're offering a software-only solution combined with the Intel prior generation of their SmartNIC. So it is a new part of our product line to continue to drive this. and the new partnerships obviously have a lot of potential. So we're working to build those revenue streams now. So we're pretty excited about that new line of business, and it just gives us another way to get after parts of the market that we otherwise could not get to if we sold a hardware-software combined solution. So Sergey, thank you very much for your questions. Perfect. Thank you. Thank you.

Thank you. We have no further questions at this time. Speakers, please go ahead.

OK. I do have another question that's been written in. This question is, what is your visibility on sales in Q2? Are we likely to see growth starting to pick up already in Q2? Can you also elaborate on how you expect sales to accelerate in second half? Thanks. It's a very good question. Of course, we have good visibility into Q2. We're currently in the middle of Q2. right now. We're advising our annual guidance is still firm and we're recommitting to our annual guidance. Typically from a seasonality perspective, first half tends to be slower than second half. In general, that's standard seasonality for us and we are comparing against a very strong first half last year. We don't anticipate any changes to that at this point in time. From a Q3 and Q4 perspective, we tend to see more volatility in Q3 and Q4 related to end-user activity within the pipeline. We have good visibility into our pipeline currently with our OEM partnerships and relationships. We have a few new partnerships that we are working towards first revenue, such as with Silicon and Lenovo, and we'll continue to operate those. We talked a little bit about a new design win that we just won that we anticipate will grow into revenue in the second half of the year. And we are still working to get visibility in Q3, which is somewhat in the government agency sector, and in Q4 across the enterprise sectors to build out the full pipeline view for the second half of the year. So that is still work in progress, but we're absolutely in the same place every year about this time of the year in terms of what the second half looks like. We're reiterating our goal for the year to our investors because we still feel very confident that those goals are good to go. It's a good question. I do have one last question that's written in on the text, and then we'll go back to the phone and see if there's any final questions. Can you please explain more about your expectations about the Acronix relationship? and whether or not this might include revenue in the 2021 plan. So hopefully everybody noticed we put a PR out about our forming relationship with Acronix. Acronix is a challenger in the FPGA market domain. They compete with other larger players in developing and deploying FPGAs, which is what we build our software on. They compete with Intel and Xilinx. And we've created a relationship with Acronix that basically uses their best-in-class solution as a consideration to enhance our products. And they're considering the use of our software and enhancing their solution on their go-to-market side. So once again, for Napa Tech, this presents a very compelling opportunity to sell software through a partnership like Acronix, as Acronix is offering their solution to their end-user customers. It is a new partnership. And it is early days, so this is an advisory based on what we had said at Capital Markets Day. And we will be collaborating to cement our product area opportunities with Acronix, and we'll make some further advice about those once we get to that point. So we're excited about the relationship. We think that Acronix is very much like a Napa Tech in many ways, a fast-moving, aggressive, growing company looking to make its place within the FPGA market. So we tend to size up very nicely. with Acronix, and we're very excited about the new relationship we're forming with them. Operator, any questions on the phone?

No question at the moment.

Okay, and I think we'll bring this meeting to a close. I'd like to thank all of our new and existing investors for your support, and very importantly, I'd like to thank all of the employees of Napa Tech for a great start to 2021. I wish you all great health and a great day. Have a good day, and thanks for listening.